"Making Work Pay" Tax Credit - New Withholding Tables for Employers.

The Making Work Pay (“MWP”) Tax Credit is a centerpiece of the new economic recovery legislation, the American Recovery and Reinvestment Act of 2009, which was signed into law on February 17, 2009. The objective of the MWP tax credit is to cut taxes for a majority of low- and moderate-income working families during the next two years. The credit will start rather quickly, since it is implemented through reduced withholdings. Otherwise, taxpayers would not benefit from the credit until they file their 2009 tax returns, significantly delaying the stimulus effect. According to an IRS news release, the MWP credit will result in more take-home pay this spring for millions of American workers. A closer look at the key points of the MWP credit follows.

The Administration and Amount of the Credit.

Delivery of the MWP credit will be in small increments through reduced withholding, rather than in a lump sum as a tax refund. Thus, unlike last year’s economic stimulus payment, most taxpayers will not get a separate check mailed to them from the IRS.

• Generally, No New W-4s Are Required.

Since employers and payroll companies will be handling this change, eligible workers will get the benefit of this change without any action on their part. This means that workers do not need to fill out a new W-4 withholding form to get the MWP credit reflected in their take-home pay. However, it is advised that individuals and couples with multiple jobs submit revised Forms W-4 to ensure that enough is withheld to cover the income tax for their combined income. For details, see IRS Publication 919, which provides additional guidance for tax withholding.

• Credit Capped at $400 for Individuals and $800 for Joint Filers.

The MWP credit applies only for tax years 2009 and 2010. Workers can receive an income tax credit equal to 6.2% of earned income up to a maximum of $400 ($800 for married couples filing a joint return). According to IRS projections, most workers will qualify for the maximum credit. Because the credit is refundable (people can get it even if they owe no tax), most low-income workers will also qualify for the full credit. If the credit is greater than the total that the taxpayer owes in income taxes, they will get a check from the government for the remaining amount of the credit. For example, if a couple has an income tax liability of $600 (after all other credits and deductions), the MWP credit would completely wipe out their tax liability. They would then receive a $200 check from the IRS for the refundable portion of the credit.

Taxpayer Eligibility Requirements.

• The Taxpayer Must Have Income from a Job or Self-Employment.

A person must have earned income from a job or self-employment to qualify for the MWP credit. Thus, people that can be claimed as dependents on someone else's tax return or retired people are not eligible. Self-employed persons can get the credit by reducing their quarterly estimated tax payments or claiming it when they file their 2009 tax return. Taxpayers who do not have taxes withheld by an employer during the tax year or do not earn enough income to owe federal income tax can also claim the credit on their 2009 tax return. In any scenario, the amount of the credit must be reported on the employee's 2009 income tax return filed in 2010. If the eligibility requirements are not met and an employer reduces withholding inadvertently, employees will have to pay the credit back when filing their 2009 tax return.

• Modified Adjusted Gross Income Is Capped.

Taking into a consideration the objective of the MWP credit, the credit is phased out for higher income taxpayers. Taxpayers whose modified adjusted gross income is below $75,000 (single) and $150,000 (joint) qualify for the full 6.2% credit.  The credit is phased out for taxpayers whose modified adjusted gross income is between $75,000 and $95,000 (single) or $150,000 and $190,000 (joint).  Taxpayers whose modified adjusted gross income exceeds $95,000 (single) and $190,000 (joint) are ineligible for the MWP credit.  Thus, many higher-income taxpayers will see little or no change in their take-home pay.

• Most Nonresident Aliens Are Ineligible.

Most nonresident aliens are not eligible for the MWP credit. Therefore, IRS has a different procedure in place for withholding income taxes on the wages of nonresident alien employees.

Guidelines Available for Employers.

WHAT EMPLOYERS MUST DO.

To effectuate the MWP credit, employers must adjust employee withholding amounts. The new withholding tables along with other instructions related to implementing the MWP credit are incorporated in the new IRS Publication 15-T (Circular E), Employer’s Tax Guide (March 2009). Please click here to view the new withholding tables which are also posted on the IRS web site. Employers should begin using the new withholding tables as soon as possible, but no later than April 1, 2009.

IRS Publication 15-T provides information for employers that:

• Use the Wage Bracket withholding method, including tables for employers that use automated payroll systems.
• Use the Percentage withholding method, including tables for employers that use automated payroll systems.
• Use alternative withholding methods, such as the annualized wages, average estimated wages, cumulative wages, part-year employment and continuous employment methodologies.
• May use other, more individualized withholding methods.

Because most nonresident alien employees are not eligible for the MWP credit, employers must use a modified procedure to figure the amount of federal income tax withholding on the wages of nonresident alien employees. An employer must add a certain amount to the nonresident alien’s wages solely for calculating the income tax withholding for each payroll period. The amount added to wages is solely for purposes of calculating income tax withholding and this amount is not reported on Form W-2, and does not increase the income tax liability of the employee. The amount also does not affect the social security tax, Medicare tax, or FUTA tax liability of the employer or the employee. The exclusion from the rule are nonresident alien students from India and business apprentices from India.

For questions regarding this or any other tax-related topic, please feel free to contact:

Pat Derdenger, pderdenger@steptoe.com

Frank Crociata, fcrociata@steptoe.com

Steptoe's Phoenix Tax attorneys regularly advise and represent business clients on corporate and individual income, sales, use, and property tax matters. Our tax group is highly experienced in litigating complex and varied income, sales and use, and property tax issues in administrative proceedings and state and federal courts, and they also seek legislative solutions to industry-wide concerns that affect firm clients. In addition, our attorneys counsel the firm’s clients on the multi-state tax implications of their business transactions.

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